Daniel Gros: Barbarians at the EU Gates
[Daniel Gros is director of the Centre for European Policy Studies.]
The euro area confronts a fundamental crisis that attacks on financial speculators will do nothing to resolve. The European Council of Ministers had to promise hundreds of billions of euros to its financially imperiled member countries, even though the European economy as a whole is not really in crisis. On the contrary, most surveys and hard economic indicators point to a strong upswing, with the one country that is in really serious trouble, Greece, representing only 3 percent of the area’s gross domestic product.
Nevertheless, the crisis poses an almost existential challenge to the European Union — and has required such huge sums — because it directly implicates the key underlying principle of European governance: the nature of the state. The case of Greece has raised the simple but profound question: Can a member state of the EU be allowed to fail?
One view is that the state is sacrosanct. The EU has to intervene and help any errant member get back on its feet. But this view assumes that all member states adhere to the union’s underlying economic values of fiscal prudence and market reform. Problems could arise only because of unanticipated shocks, temporary local political difficulties and — the favorite culprit — irrational markets.
Applied to Greece, this view implies that the country’s fiscal crisis resulted from an overreaction by world financial markets to local political difficulties (excessive spending by the Greek government before last year’s elections). Moreover, it implies that the crisis is fully under European control, and that the European authorities have elaborated a comprehensive plan that will resolve all of Greece’s fiscal and structural problems. Hence the official — let’s say “Southern” — refrain: “The International Monetary and EU plan will succeed. Failure is not an option.”
The alternative view is more pragmatic and rules-based. This “Northern” view starts from the premise that member states remain sovereign units, and that it is possible that a member country does not implement a necessary economic-adjustment program. This view is embodied in the “no bailout” clause in the euro’s founding document, which stipulates that each country is responsible for its own public debt. Failure then becomes an option if the country concerned violates the single currency’s basic rules.
Financial markets do not participate directly in this debate, but they have much skin in this game. Any holder of Greek debt, especially long-term debt, must calculate the likelihood that Greece’s political system will prove strong enough to push through the reforms needed to enable the country to service its debt fully (and on time).
The collective judgment of financial markets on any government’s economic and fiscal policy is expressed in the risk premium that the government must pay on its external debt. Doubts in financial markets lead to higher risk premiums, which make it even more difficult to finance a government that is already facing financial problems. Financial markets are often wrong in their judgments. But they are a fact of life that cannot just be wished or regulated away...
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The euro area confronts a fundamental crisis that attacks on financial speculators will do nothing to resolve. The European Council of Ministers had to promise hundreds of billions of euros to its financially imperiled member countries, even though the European economy as a whole is not really in crisis. On the contrary, most surveys and hard economic indicators point to a strong upswing, with the one country that is in really serious trouble, Greece, representing only 3 percent of the area’s gross domestic product.
Nevertheless, the crisis poses an almost existential challenge to the European Union — and has required such huge sums — because it directly implicates the key underlying principle of European governance: the nature of the state. The case of Greece has raised the simple but profound question: Can a member state of the EU be allowed to fail?
One view is that the state is sacrosanct. The EU has to intervene and help any errant member get back on its feet. But this view assumes that all member states adhere to the union’s underlying economic values of fiscal prudence and market reform. Problems could arise only because of unanticipated shocks, temporary local political difficulties and — the favorite culprit — irrational markets.
Applied to Greece, this view implies that the country’s fiscal crisis resulted from an overreaction by world financial markets to local political difficulties (excessive spending by the Greek government before last year’s elections). Moreover, it implies that the crisis is fully under European control, and that the European authorities have elaborated a comprehensive plan that will resolve all of Greece’s fiscal and structural problems. Hence the official — let’s say “Southern” — refrain: “The International Monetary and EU plan will succeed. Failure is not an option.”
The alternative view is more pragmatic and rules-based. This “Northern” view starts from the premise that member states remain sovereign units, and that it is possible that a member country does not implement a necessary economic-adjustment program. This view is embodied in the “no bailout” clause in the euro’s founding document, which stipulates that each country is responsible for its own public debt. Failure then becomes an option if the country concerned violates the single currency’s basic rules.
Financial markets do not participate directly in this debate, but they have much skin in this game. Any holder of Greek debt, especially long-term debt, must calculate the likelihood that Greece’s political system will prove strong enough to push through the reforms needed to enable the country to service its debt fully (and on time).
The collective judgment of financial markets on any government’s economic and fiscal policy is expressed in the risk premium that the government must pay on its external debt. Doubts in financial markets lead to higher risk premiums, which make it even more difficult to finance a government that is already facing financial problems. Financial markets are often wrong in their judgments. But they are a fact of life that cannot just be wished or regulated away...